The global energy market is going through a major crisis with an oversupply of hydrocarbons and shrinking demand. At the end of March 2020, the price for gas at European hubs showed a record drop. For the first time in 17 years, it fell below $81 per 1,000 cubic meters, which is almost 50% lower compared to the same period in 2019. As a result, drilling companies suspended production in the existing systems and have little incentives to invest in new areas.
Our country’s oil and gas extraction has already fallen by 4% and 2% accordingly since the beginning of the year and is expected to fall lower by the end of 2020.
Having a highly energy-dependent gross domestic product with 14 billion cubic meters of natural gas still imported annually, Ukraine must not allow the industry to collapse. There are several tipping points for the gas industry to survive, a production sharing agreement, or PSA, being a key one.
Domestic production – Ukraine should take the momentum
On April 1, 2020, new PSA competitions took place for three oil and gas fields in northern Ukraine. Starting in August 2019, the bidding period lasted six months, with five major companies – both national and international – expressing their interest to enter the blocks. The winners are two powerful international players: the British York Energy has won the right to explore the Ichnyanska block (805 square miles), while EP Ukraine (a subsidiary of the European EPH) has received control over the Hrunivska and Okhtyrska blocks (678 square miles totally).
Apart from the three new areas, in July 2019 nine major PSA tenders were held. With the total area of 7, 000 square miles, the Uhnivska, Zinkivska, Varvynska, Sofiivska, Buzivska, Rusanivska, Berestyanska, Balakliiska, and Ivanivska blocks could give Ukrainian economy from $430 million to $1.5 billion in exploration in five years and up to $4.4 billion in 50 years of contract life.
However, although the winners were approved, the current government still has not signed the final agreements to start PSA, slowing down the process and causing uncertainty for investors. Due to these delays, the companies have not only failed to proceed with exploration but cannot even build reliable financial models for the next 50-70 years. This must be fixed as soon as possible.
The tipping point for Ukrainian gas industry
If succeeds, Ukraine can turn effective gas production into a remedy for the economy. While coal mining and nuclear production are declining worldwide as environmentally harmful and ineffective, natural gas and especially LNG are gaining popularity. Having massive natural gas deposits and the largest gas transition system in Europe, Ukraine has the potential to become an infrastructural hub with its own LNG facility and strong gas production industry. Such a task should be a top priority for the current government. Realization of Ukraine’s gas infrastructure potential will increase regional energy security, market liquidity and competition. New oil and gas drilling companies will create jobs, expand national oil and gas production, increase tax revenues, boost energy independence and potentially substitute coal energy with more environmentally-beneficial fuels.
Gas producers need more incentives
The lack of stability in the market creates a high risk of complete suspension of investment in the oil and gas industry, which will inevitably lead to a decrease in domestic production in the long run. Reduced investment in hydrocarbon production will have a number of shocking consequences, the most painful of which will be the weakening of the country’s energy independence. To avoid such issues, the government should stimulate further investments in the industry by introducing an interest rate of 6/12% for restored wells that have not produced hydrocarbons in the last 2 years and have been returned to production through an overhaul. It is also needed to introduce stimulating norms for the extraction of unconventional hydrocarbon deposits. Besides, Ukraine should extend the state-guaranteed period of taxation on hydrocarbon production from new wells from 5 to 10 years to decrease investment risks.
Gas extraction in the Black Sea: Will Ukraine manage to attract an investor?
Finally, the tender for the Dolphin – the largest sea offshore hydrocarbon block (5,900 square miles) must be relaunched. Last year, when the results of the previous PSA competition were withdrawn due to the poor quality of applications, the government promised to carry out another competition in March 2020. Yet, the area is still suspended.
Containing over 300 billion cubic meters of gas and almost 200 million tons of oil, being adjacent to the Crimean nationalized Chornomornaftogaz’s territory, Dolphin is both economically and geopolitically vital for our country. Hence, the government should focus on running a new competition for the block in order to attract transnational companies with strong political backup and years of experience in the industry.
Time matters
The crisis that the world is currently going through can and should be regarded as a set of new opportunities for the Ukrainian oil and gas industry. Ukraine already has large hydrocarbons reserves, a developed gas market, and sufficient legal framework. Now the government has to finish signing the 12 PSA agreements and sustain investors’ engagement by offering a more attractive fiscal regime for gas producers. If the correct steps are taken, Ukraine will not only get through economic turbulence in the short term but ensure substantial economic growth
Nataliya Katser-Buchkovska is CEO at Ukrainian Sustainable Fund and energy and investment advisor at Ukrainian Institute for the Future. is a member of the Ukrainian parliament and chairman of the gas subcommittee of the Energy Committee.
